You've no doubt heard many times that one of the best ways to
makemoney in thestock market is to buystocks when they're
"hated." In fact,Warren Buffett has followed this path to profits
countless times and used it to amass his vast fortune.
I don't think I could find many stocks that have been more
"hated" over the past few years than
Bank of America (
. From its role in the financial crisis and housing bubble to
ongoing litigationissues associated with those dark chapters for
theeconomy , it seems like the company can't catch a break.
But, of course, just because a stock is hated doesn'tmean you
should buy it. To determine this, we have to look much
But before we do that, the first and most obvious thing to
consider is that none other than Buffett himself has issued a
vote of confidence in Bank of America, as evidenced by his $5
billion stake inpreferred shares , which come with a steady
We don't have the luxury of getting a sweetheart deal like
this, but we can look to some of his recent comments about the
company to get a clue into his thinking on the current status of
the company -- and Buffett has said Bank of America'smortgage
issues are being addressed.
The stock's current price is considerably below itsbook value
of about $20, but that discount accounts for the lack of clarity
about the bank's future. For one, the company is still dealing
with the fallout from subprime lending issues, largely tied to
itsacquisition of Countrywide Financial, and the housing market
Most recently, the federal government sued Bank of America,
accusing it of misleading investors in about $850 million of
mortgage-backed securities. According to the suit, the bank led
investors to believe that the securities were backed byprime
jumbo mortgage loans and did not adequately disclose the risks
involved. Earlier thisyear , Bank of America settled with
Fannie Mae (OTC:FNMA )
over loans that Fannie claimed were substandard and wanted Bank
of America to buy back.
Bank of America isn't alone in its mortgage issues: The bank
committed tocash payments of $1.1 billion and other assistance of
$1.8 billion in a settlement with other banks and the government
to help mortgage borrowers withloan modifications.
The most recent government lawsuit comes just when Bank of
America is cutting down significantly on its litigation expenses,
which were $471 million in the second quarter, down from $2.2
billion in the first quarter and from $963 million in last year's
Still, Bank of America reported good results for the second
quarter, withnet income up 63% from a year ago, to $4
billion.Earnings per share (
) for the period were 32 cents a share, up 68% from last year.
However,revenue was up a mere 3%, meaning thatprofit increase was
achieved through cost-cutting and a reduction inloan loss
reserves as the economy improved.
Bank of America's 2009 acquisition of Merrill Lynch is bearing
fruit, with its globalwealth andinvestment management business
division reporting second-quarter revenue of $4.5 billion, up
about 10% from a year ago. The division's assets under management
also increased, andasset management fees jumped 10%. The bank
also reports that it is able to meet standards showing it has
enoughcapital to weather losses.
Annualizing itsEPS for the second quarter, the
company'sprice-to-earnings ratio is a reasonable 11.35, and its
price-to-book ratio is an attractive 0.7. Although BAC's
currentdividend yield is only about 0.3%, management could buy
back as much as $4 billion in stock.
Risks to Consider:
The major risk facing Bank of America stems from the
liabilities related to its mortgage lending and securitization
activities. While the improvement in the housing market means
that the worst of the downturn is likely behind us, other claims
could surface against Bank of America, particularly in connection
with the subprime activities of Countrywide Financial, which Bank
of America acquired in 2008.
Action to Take -->
BAC is unlikely to test the lows it saw in early 2009, when it
sank all the way to $2.53, down from more than $50 a share in
2007. And BAC does present considerableupside , considering it
may regain its luster as the economy improves. Even then, what
worked for Warren Buffett might not work for you, given the
considerableheadline risk associated with BAC. Those enticed to
buy by Bank of America's value proposition may want to wait a bit
to see how things play out.